The Waste Management, Inc. 1998 Fraud Scandal
Background and Company Overview
Waste Management, Inc. Is a publicly-traded is company that was started in 1894 by Larry Beck, its initial founder. It grew to be one of the largest trash haulers (core business) serving the United States, Canada and Puerto Rico. In addition to trash Hauling, the company was officially described as an environmental company, as its core business touched on environmental management. In 1971, the company officially went public. According to ENSSCPA (2017), as of 1972, the company had made 133 acquisitions and was already making 82 million dollars in revenue. Its acquisition of the Service Corporation of America in the 1980s officially made it the largest environmental company in North America, allowing it to solidify its position and sustain growth.
The Scandal
Waste Management was involved in controversial dealings in the period between 1992 and 1997. ENSSCPA (2017) identifies that the company’s senior officials began to engage in fraudulent dealing and crime in the state period. The officials listed and later investigated by the SEC included Dean Buntrock (Founder and CEO), Phillip Rooney (Former President), Thomas Hau (CAO), James Koenig (CFO), Herbert Getz (General Counsel), and Bruce Tobecksen (Vice President of Finance) (ENSSCPA, 2017). The crimes mainly involved the company’s accounting books. According to Crain et al. (2015), this is regarded as occupational fraud and bares criminal liabilities for stakeholders of the company that takes part in it. Summarily, the Waste Management scandal involved a greater degree of occupational fraud, stretching nearly six years.
The Crimes Committed
Occupational Fraud includes corruption, asset misappropriation and financial statement manipulation. The financial statements are central to the company as they offer insight into how healthy the company is. In the case of a publicly-traded company, Financial statements are important as they allow the company to make critical decisions on shareholder and board of director compensations (Miller, 2019). If they are misappropriated, the value of the stock, the profits earned, or the company’s general health might be misrepresented, leading to financial losses on shareholder’s earnings or general company employee well-being. Miller (2019) identifies that the organization’s directors, officers, and general subordinates have a duty of loyalty to the company to work in faith and with its best interest.
Officials from the company are limited from engaging in self-dealing that will only bring interest to them at the expense of shareholders. When the shareholders give up their money, some of the benefits they get in return is a general assumption that their investment in the firm will be profitable. This is described as The Howey Test, and where shareholders invest in a business, reasonably expecting profit while at the same time, not being obligated to work to achieve this profit (Miller, 2019). Failure to achieve this by the officers in charge will be judged in two manners. Miller (2019) points out that a director or an officer of the company might make a Business Judgment Rule that brings losses to the company; Business Judgment Rule being a decision made in good guidance but not in hindsight not successful for the business. They cannot be held liable to the corporation, as this was an honest mistake.
At Waste Management, the officials listed earlier in the misappropriation of assets and manipulation of the financial statement did so unintentionally to gain personal benefits and for the company executives to meet the pre-determined targets set out at the beginning of their financial years. They assigned high salvage values on the company’s old assets that had already substantially depreciated. They sold old company assets to third-party buyers at high costs, intentionally omitting the depreciated values to make a personal profit from the equipment’s sale. Crain et al. (2015) identify that a potential key reason why the values were never detected was weak accounting, stating that if the accounts are weak, it might be impossible to catch the perpetrators of asset misappropriation.
Another type of fraud that took place was the officers’ intentional failure to record depreciation of expenses in any decreases management of the landfill. By failing to show the decrease in expenses, they added money to the company and intentionally failed to invest in landfill development projects. This meant more profits for the company, which translates to better bonuses for the officials. This was active manipulation of financial statements for the benefit of the company and the officials indirectly. They additionally assigned salvage value to assets that had depreciated beyond salvaging. The fraudulently increased environmental reserves to avoid an increase in operating expenses in the form of taxation (U.S SEC, 2002). The company’s auditor, Arthur Anderson LLP, was also mentioned by the SEC. He played a critical role in aiding the defendants to evade taxes and defraud the company. Parella (2013) identifies that he became too cozy in his role with the company, to the point beyond the conflict of interest receiving more money from Waste Management’s non-auditing tasks than the auditing tasks he was hired for.
Under the Sarbanes-Oxley Act of 2002, an auditor is required to wait a year before they serve in another company’s executive position, in the case that they worked with that company before (Miller, 2019). This was in total disregard in Anderson auditors’ case, some of the officers named in the suit by SEC worked at Anderson before transferring to Waste Management. According to ENSSCPA (2017), this allowed them to eliminate nearly $490 million in operating expenses. Ultimately, Waste Management could file false profits for a large period, record false assets and manage to document a near-zero increase in liability. They restated their earnings by nearly $1.7 Billion in 1998 when the new CEO, A Maurice Meyers, discovered and reported it to the SEC.
The Court Case Analysis
Following the scandal, the company was sued by the Securities and Exchange Commission for financial malpractice in Securities and Exchange Commission V. Dean L. Buntrock, Phillip B. Rooney, James E. Koenig, Thomas C. Hau, Herbert A. Getz, and Bruce D. Tobecksen, Civil Action No. 02C 2180 (Judge Manning) (N.D. Ill. March 26, 2002).
Financial fraud is a prevalent form of corruption within corporate America. It was central in perpetuating the 2008 economic meltdown that saw thousands of people lose their jobs, properties and investment. There are a variety of steps that the SEC has to take to improve and mitigate this crime from happening. Officially, it is considered a crime because it seeks to manipulate information and works retrogressively from the agreed standards. Clarkson, Miller and Cross (2018) identify that it defrauds investors and actively defies regulation set to prevent consumers and the general public from losing billions in taxes and personal assets. As such, the SEC was created with the main aim of regulating corporation conducts within America.
America’s corporate structure is elaborate and well laid out for the SEC to function and adequately investigate. Understanding the corporate structure is key in defining the SEC’s function. Primarily, a corporation is treated as a legal entity in its rights (Millers, 2019). Corporation personnel includes the board of directors and the corporate officers who have their subordinates. Miller outlines that there is generally a veil between shareholders and the board of directors who run a corporation. The board of directors is entitled to run the day to day decision making of the corporation and, in so doing, have greater freedom and control of the organization’s daily function. They report on their activities to the shareholders once a year, but at the same time have greater autonomy to function. Miller (2019) describes this as a corporate veil, an element of autonomy and intentional exclusion of the shareholders from day to day running of the business within an organization.
Corporations are considered a legal entity before the law. As such, they can be taken to court or take other people to court. Since they cannot be jailed, they are usually required to pay a fine amounting to certain degrees of damage incurred (Clarkson, Miller and Cross, 2019). The SEC can also take the corporation to jail or its employees. The shareholders can sue the directors on behalf of the corporation under the shareholder’s derivative suit, here corporations (Miller, 2019). Directors and officers working within a corporation can be held liable for a number of factors. They can be held for their own crimes and crimes committed by people they supervise and contact directly (Miller 2019). Finally, the directors and officers within a company have the right to participate in all board meetings with the shareholders and are informed beforehand; they also have a right to inspect all company resources. As such, they are held in a higher position when evaluating company conduct and goals.
This can be reviewed as one of the key reasons that propelled Maurice Meyers, the new CEO of Waste Management, to inspect company books. It also compelled him to report to the SEC and take legal actions on behalf of the company against a third party ex-CEO. Failure to do this, Meyers as an insider director, would have been liable for the crimes and personally be held liable in the court of law for failure to see or report them as the CEO. Other reasons could include:
• Duty of care: This requires that they act in good faith and in honesty like a standard person would in similar circumstances.
• Duty of loyalty: Officers ought to be loyal and faithful to their obligation and work to keep their interests aside for the company’s greater good.
• Disclosure of Conflicts of Interest: Any business affiliation limits the directors from entering a supporting business firm.
Following the disclosure of malpractice by Meyers, SEC launched a probe and further went to court with a suit. The former CEO and his cohorts were found guilty. Anderson LLP was also fined $7 million. Shareholders sued Waste Management, and they arrived at a settlement compelling WM to pay 457 million dollars (Corporate Finance Institute, 2020).
How Waste Management Inc. Overcame the Scandal
Employees play a very central role within any organization. This is also the case in Waste Management. There was a high probability that it would collapse and fail for a scandal of its size, but it did not achieve this, thanks to its employees. Creswell (2003) states that Meyers, the new CEO, made his employees a priority. Researchers identify that fraudulent behavior is better managed and prevented when junior employees are given incentives in many instances. According to Biegelman and Bartlow (2006), internal and external audits are less effective in detecting fraud than junior or smaller employees. Lack of employee freedom and protection from identifying fraudulent activities was a key factor that led to senior management’s perpetuation of crime. In the U.S SEC report (2002), Koenig, the CFO critically undermined junior officers and took control and central part in the process of capitalizing expenses for profit. Had employee rights been honored and had there been channels to identify the fraudulent actions confidentially, the losses would have been controlled. As such, there needs to be room for greater freedom and protection for employee rights. Meyers took the time to visit and communicate with his employees on their needs and responsibilities. Creswell (2003) identifies that one of the key objectives to revive the company and prevent it from falling further was to regain employee trust. As Meyers put it, employees were valuable assets that would be critical in driving the company’s recovery.
Additionally, Meyers instituted a company newspaper that focused on educating the employees and an anonymous hotline used to call and report illegitimate behavior that was likely to compromise the company. Creswell (2003) identifies that between 2001 and July 5, 2003, the hotline had logged a total of 4600 calls and directly led to 60 employees’ termination. Additionally, the Sarbanes-Oxley (SOX) act of 2002, compelled companies to create avenues for employees to report crimes without being unnecessarily targeted.
Meyers’ key problem was numerous paychecks with employees and a very uninformed company benefit plan. Under the principal agency relationship, the employer obligated by law to duly compensate the employee. Kubasek et al. (2019) identify the duty of compensation as a principal in which the organization must make adequate compensation on work done by the employee. In Ralph T. Leonard et al. v. Jerry D. McMorris et al., NationWay Trucking company was laid off employees after the company went bankrupt. In this case, Ralph Leonard and other terminated employees suid the executives of NationWay, holding them personally liable. The courts ordered them to pay the workers unpaid wages under the Colorado Wage Claim Act. Similarly, under the duty of compensation, WM’s executive was required to ensure payment for all its employees duly.
In most occupational fraud cases, one of the key reasons is that the people found propagating crime, do not harbor moral authority or ethics to do the right thing. In this regard, Meyers established an ethical training requirement for the directors and all company officers to re-establish its moral ground (Creswell, 2003). Waste Management critically reevaluated its business and promoted more communication with its shareholder. Under Meyers, it agreed to settle with on the class action lawsuit. With the lawsuit, a new claim was being filed every day, and it would have eventually risen to billions if they went slow. WM settled and paid $457 million to its shareholders. It additionally consolidated all its assets and reevaluated their value, redid their financial statement and chartered a critical way forward that mainly dealt with under-promising the shareholders and overachieving.
One of the key factors that brought reform into the sector was the SOX or the Sarbanes-Oxley Act of 2002. It worked to bring greater reform into the industry and compel further compliance in how day to day functions was being conducted. According to Dowd (2016), the SOX promoted more transparency within the organization critically by increasing calls for intense monitoring of the firm’s accounting and auditing business. This was to prevent future scandals where the auditors and the firm employees collided to create room for the generation of corruption. The SEC was created to address the welfare of the consumers. After the market crash in 1929, the SEC was created to protect consumers who unknowingly buy into the business and maybe fraudulently targeted. Meyers recognized the consumer’s importance within their general business model and scrambled to control their well-being. WM is involved in the billing of consumers who it serves. Before Meyers, consumers were identified as incorrectly billed, and in other cases, the company would miss garbage pickups for service already paid. This is grounds for fines. The FTC has regulatory influence and in this case, it is required to provide greater protection to the consumer against the company (Creswell, 2003). To avoid litigation and fines, Meyers moved to upgrade the billing problems. All these factors worked accurately to create a growth opportunity for the WM post-1998 scandal.
Conclusion
The most important principle of business that most organization aim for is to maximize profits and minimize costs in order to achieve the best growth outcome. With immense need to outperform, in an increasingly competitive business environment, businesses have to be proactive and work faster. In this regard, most directors and senior officers are subjected to pressures to achieve and maintain a better growth trajectory. Additionally, organizations create targets for their directors and senior manager. This is important as it propels the directors to work harder and keeps them in line, as in most cases organizations are separated from their shareholder by the corporate veil. The quotas and minimum targets acts as a tool to guide them and keep them in line. Furthermore, the targets and quotas provide them with the motivation to achieve more, as they are paid using compensation. The more they achieve the more they get to earn in compensation, salaries and bonuses.
In the case of Waste Management Inc., the above mentioned factors and the additional lack of ethic or a clear moral guide and greed motivated the executives within the company to take part in a large scale financial statement manipulation, asset misappropriation, expenses understatement and general neglect of worker and consumer needs. Their intentional disregard of their legal duty and continued breach of their legal duty resulted in one of the largest corporate financial scandals in history of the US. To rectify this, the above term paper evaluates the problem cause and arrives at corruption, lack of proper regulation, unethical standards that predominated the corporate industry. It evaluates the need for more worker centric management and need for greater protection for whistle blowers, constant communication and need for better established communication. With the help of the SOX act of 2002, the WM, was greatly restructured for a more productive future.
References
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